To Our Shareholders: We are pleased to report very good mid-year and second quarter operating results for your company and its wholly owned subsidiary, The Palmetto Bank. While the economic and competitive environment for pricing deposits and loans has been challenging during this period, the results have supported excellent growth in both categories. The Federal Reserve continues to monitor and respond to signs of inflation in the economy. After 17 increases in the Fed Funds rate since June 2004, we now see an industry prime rate of 8 1/4% compared to 4 1/4% just 2 years ago. In spite of these increases in the basic lending rate, we remain optimistic for the Upstate economy in the near and longer term. Recent signs of stronger economic activity in small business, residential, resort and industrial growth - all point to continued opportunity ahead. With no doubt higher interest rates can negatively influence borrowing decisions including short-term impacts on the residential housing market. Total assets stood at $1.1 billion at June 30, 2006, a 6% increase over $1.05 billion recorded for the same period in 2005. When added to trust assets at June 30 of $285 million, investment assets of $160 million in Palmetto Capital and mortgage loans serviced of $313 million, total assets under management grew to $1.8 billion at June 30, a 6% increase over mid-year 2005. Building an expanding stream of revenue from all corporate areas continues to be significant for long-term profitability. We are also pleased to report on improved operating results in the second quarter. Net income increased 5% to $3.7 million over $3.5 million in the second quarter of 2005. On a fully diluted basis earnings per share increased 5% to $.58 compared with $.55 per diluted share in the second quarter 2005. The cash dividend payment of $.18 per share at the end of June also reflected excellent operating results for the quarter. While equity markets continued mixed and reactive to domestic and international events we are pleased that recent trades for Palmetto Bancshares, Inc. in the second quarter were in the $36 range, a good increase for year to date. For the six months ended June 30, 2006 we continued to exceed annual profit projections and posted six months net income of $7.4 million compared to $7.0 million at this period in 2005. Net income per diluted share for the six months period ended June 30 was $1.15 compared with $1.08 for the same period in 2005, an increase of 6%. Profitability ratios were excellent with a return on average assets at June 30, 2006 of 1.35% and a return on average shareholders' equity of 16.10%. Second quarter and six months profitability benefited from increased net interest income and improvement in non-interest income while at the same time we saw total non-interest expenses up at mid-year due primarily to added personnel over last year and other expenses related to the opening of the new Easley office in late 2005. The implementation of new sales programs and related software installation also added to expenses in the first six months of 2006. | Deposit growth, our core raw material ingredient, has been excellent in the first six months showing an increase over 2005 at June 30 of 12%. Retail sales training, new sales skills, sales tracking systems, new deposit products and good market opportunity all combined to raise total deposits at mid-year to a record $1 billion. The acquisition of core retail non-brokered deposits is essential to our continued growth. Continuing to build deposit market share is one of our highest priorities. Identifying customer needs and helping customers to succeed financially continues at the heart of the strategic planning process. Establishing The Palmetto Bank presence in Easley and the planned opening this fall of the new Boiling Springs office in northern Spartanburg County is central and core to our long-term strategy for the Upstate. The results in Easley to date have been outstanding and we believe our brand in Boiling Springs will not only complement a growing office in Inman but bring added strength to our presence in Spartanburg County. Although we have seen loan growth slowing in the first six months compared to that period in 2005, we are pleased with added loans of $62.3 million, an increase of 8% over June 30, 2005. Most of all we are pleased to see loan quality sound and well managed and in overall excellent condition. Adjusted for a single commercial real estate loan in process of foreclosure and in which we see no loss, non-performing loans as a percentage of total loans at mid-year were .30% compared with .28% at the same point in 2005. Delinquency ratios by category and overall percentages are among the best we have seen in recent memory. A net charge-off ratio at mid-year of .14% exceeded our best of last year at .19%. The good result we have seen thus far this year is due in large part to good underwriting and the outstanding results put forth by aggressive efforts from an experienced collection team organized in 2005. By now you have become acquainted with a new stockholder transfer and registration service provided by Registrar and Transfer Company of Cranford, NJ. Together we are committed to providing an enhanced service for timely and accurate stock transfers and transactions. While we believe we will all benefit long term from this relationship, you may still contact Corporate Secretary, Teresa Crabtree, with any of your questions. As the number of stockholders has grown and the reporting requirements to the SEC have become more detailed, as with other bank applications, we believe outsourcing this function will provide you and the company with timely, accurate, consistent reporting. The service also provides on-line and up to date information on your Palmetto holdings as well as quarterly divided payment and reporting records. As we approach September and the celebration of The Palmetto Bank's 100th birthday, you will begin to see evidence of this awareness in Upstate billboard advertising, special events through our 31 offices and other events planned for this special time in our history. We urge you to take part in our celebration for, as a stockholder, it is also your celebration of our past, the present and a great future ahead. We hope you will feel the spirit of this special time with us. 
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